It's Not Easy Being Popular

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If there is a contest for worst earnings report this quarter, Popular (Nasdaq: BPOP) is certainly in the running.

Popular, best known as Banco Popular, was still profitable in the quarter, so it wasn't a complete disaster. The Motley Fool Income Investor selection is still the dominant bank in Puerto Rico on a number of important metrics, including deposits, though Santander Bancorp (NYSE: SBP) and First Bancorp (NYSE: FBP) provide decent competition. Still, the earnings decline and return on assets of 0.64% and return on equity of 7.8% are far from acceptable, particularly for a bank that is just trying to right itself after pulling out of the subprime business and restructuring its operations to lower costs.

Blame loan losses and the beefing up of reserves to cover future losses. Popular also saw charge-offs increase across commercial, mortgage, and consumer lending portions of its portfolio. Given the trends across its portfolio in the last few quarters, there aren't yet signs that the trend in losses is stabilizing.

The current interest rate environment isn't helping, either. Deposits are getting more expensive and competition for them is intensifying, as online money market offerings have proliferated. Meanwhile, lending rates aren't rising as quickly and the quality of loans is declining.

Popular did see some improvements in its non-interest income and lower non-interest expense. The company also managed to eke out slightly higher net interest income from slightly higher rates on loans. It's also repositioning its funding to lower costs deposits from higher cost debt. This helps, but it's really like a bandage on a gunshot wound. The rise in reserves in charge-offs simply siphons off the improvements. Overall, I think many investors have looked at the very low write-offs for banks over the last three years and projected similar rates into the future. Companies that have tight lending standards and continually refine them will generally see lower losses than average, but the overall credit cycle won't change.

The tough environment comes just as Popular was trying to regain its footing after exiting subprime and lower its administrative costs by combining units in its U.S. operations. The lower costs will certainly help Popular get by in the tough environment, but the benefits from the lower costs won't be hitting the bottom line until things improve -- and there aren't any signs of that happening soon.

Read more about Popular in these Foolish articles:

• Not So Popular Now
• Popular but Struggling
• The Banks of the Caribbean

Curious about why Popular is a Motley Fool Income Investor recommendation? Consider signing up for a free trial today.

Nathan Parmelee owns shares in Popular, but doesn't own shares in any of the other companies mentioned. The Motley Fool has an ironclad disclosure policy.